HSBC Faces A Longer Road Back To Normal

With operations in 87 countries and every major region of the world, HSBC (NYSE:HBC) basically is world banking, or at the very least has a much wider view than almost any of its competitors. To that end, investors should take some encouragement from what looks like better operating conditions around the globe. That said, investors should not ignore HSBC's lower forward ROE guidance - a strong hint that the banking industry of tomorrow will not resemble the intra-bubble levels of profitability any time soon. (For background reading, see Analyzing A Bank's Financial Statements.)

An OK End to the YearFor the full year of 2010, HSBC reported that revenue increased just over 3% to $68.2 billion, missing the consensus estimate by about $1 billion. Net interest income fell a bit more than 3%, largely due to lower rates. The company's overall net interest margin fell as well. The biggest delta on the revenue lines, though, was in trading results: HSBC booked about 25% less revenue here than in the year-ago period and that meant $2.6 billion less in operating revenue.

Unfortunately, the company did not exactly make up for it as it went along. Compensation and administrative expenses both grew at rates that outstripped revenue growth and the company saw its efficiency ratio move to an uninspiring 55.2% - well above its 50% target level. (For related reading, see Measuring Company Efficiency.)

All of that said, the company did see improving credit conditions and booked $12 billion less in loan impairments and provisions. That, in turn, helped move the firm's NPL ratio to a relatively solid 2.9% for the year. Investors may also be interested to know that of the nearly $9 billion improvement in impairment charges in what HSBC calls "personal financial services" (that is, retail banking), more than $6 billion was tied to the United States. (For more insight, read Impairment Charges: The Good, The Bad And The Ugly.)

At the bottom line, the company did post very solid profit growth relative to last year ($13.2 billion versus $5.8 billion), but higher costs lead to an earnings miss relative to the mean analyst guess of $13.7 billion.

The Road AheadTo a large extent, the company said little with this release that was fundamentally surprising. Credit quality is getting better, global growth is picking up (as is loan demand), and the new wave of regulations is largely in place. All of that is basically good for business.

What is more interesting (and less positive), though, is the company's new return on equity targets. Previously, the company had targeted a range of ROE between 15% and 19%, but the new target is on the order of 12-15%. That is significant; investors using a return-on-equity-based model for valuation could see more than a 25% cut in their price target on just the basis of that shift in future ROE.

That said, the 15-19% range was never especially realistic to begin with, so many investors were probably already using lower numbers. Nevertheless, Barclays (NYSE:BCS) also recently reduced its target to 13% (or better), so it does appear that global bank CEOs are getting more conservative.

The Bottom LineHSBC is an unusual sort of "that'll do" global banking investment. It is not hard to find more interesting or faster-growing players in the North American market (including U.S. Bancorp (NYSE:USB), Bank of the Ozarks (Nasdaq:OZRK) or PNC (NYSE:PNC). Likewise, the same is true of other regions where banks like DBS Group (OTC:DBSDY), Unicredit, Garanti (OTC:TKGBY), Creditcorp (NYSE:BAP), or Danske (OTC:DNSKY) may be more exciting plays on their respective regions.

When it comes to a global footprint, though, it's hard to match HSBC. Even well-diversified global giants like Santander (NYSE:STD) and BBVA (NYSE:BBVA) come up a bit short, and none of these rivals matches HSBC's positions in Hong Kong and China. Although investors may certainly want to consider the two Spanish giants for their large positions in Latin America and undervalued European assets, HSBC may be a better idea for investors looking for global banking with a Chinese growth kicker.